During lockdown the phrase “groundhog day” has crept into conversation for obvious reason. It’s a challenge to avoid the same phraseology describing weekly updates. The approach has become fairly straight forward: consider the good and bad headlines, discount the nonsense to focus on the positive news that has substance. While the bad news cannot be ignored it needs context and explanation of the likely consequences. Finally, some explanation of technical aspects hopefully provides a better understanding to the background.
So, the good news this week includes a continued albeit it gradual return to work, BoE Chief Economist Andy Haldane’s observation that we’re 2 months into what (his reading of the evidence suggests) looks like a V shaped recovery, the fastest rising quarter of the FTSE100 in a decade and Boris is going to build, build, build.
The bad news includes massive redundancies, a secondary wave Covid outbreak in Leicester and a much larger scale secondary wave in the US.
Then discount the nonsense: The FTSE’s fastest rising quarter requires context as it followed an even faster fall from which is has only recovered around 50%. Many of the build, build, build spending commitments are simply bringing forward existing plans. It’s good news but any comparison to Roosevelt’s New Deal of the 1930s is perhaps misleading. The UK spend is around 0.2 – 0.25% of GDP (the value of goods and services the UK produces) against the US’ 1930s 40%.
The wave of redundancies is not good. It brings additional hardship to households during an already difficult period. However, it’s not unexpected. The economy is changing and the skills and working practices it requires will also change. As buildings are repurposed, those who worked in them need re-skilled. Addressing this will be an important part of the recovery solution.
The secondary wave is not unexpected. Localised Leicester lockdown will contain the outbreak and ideally provide an effective response model. The US situation is more serious but there’s enough global virus experience now to confirm what needs done. Interestingly financial markets in both the US and UK are increasingly resilient to such news, essentially looking beyond the immediate crisis, reflecting confidence that we’re getting through it regardless. This confidence comes from virus experience to date but also the huge financial support provided by governments and central banks. In the US support has been 12.3% of GDP whereas the UK is only 6.2%. Rishi Sunak is to make a fiscal statement later this month and further support is expected in the UK.
Previous updates have referred to looking beyond the immediate crisis, specifically the “future earnings” basis on which markets have recovered value to date. Earnings are simply company profits and can be retained by the company as reserves, reinvested to grow the company, paid as a dividend to shareholders or a mixture of these. At the beginning of 2020 the FTSE100 dividend expectation was around 4.7% which has been reduced to some 3.6% (of the share price).
In aggregate the dividends paid by FTSE100 companies this year will represent some 70% of the profits earned. This high percentage of profit being distributed to shareholders suggests confidence from those companies in their future earnings. This confidence is aligned with the value already recovered by financial markets (like the FTSE100) being based on future earnings, which again gives confidence.
Although confidence in financial markets is good it can be hard to reconcile redundancy and financial hardship headlines. Clearly there are sectors which have thrived and those which have not. Closer examination shows just 10 of the FTSE100 companies are expected to make up more than 50% of the total FTSE100 dividend payments. 48 of the 100 companies have cut, deferred or cancelled dividends as a result of Covid. Some dividend decisions will be driven by prudence, but some will be through necessity.
Again, none of this is unexpected however forward-looking financial market resilience to dividend cuts and secondary Covid waves of infection is encouraging. On balance the direction of travel seems positive.
On that note, best wishes for the weekend
Regards
Kenny